Most Volatility Since 2008-Another Week Ahead

Over the weekend I read an article and saw the charts showing that a year's worth of volatility can now be found in a single day of trading, any day!  If we break this down to the market's most fundamental driver, emotion, what would this tell you about a person who went from normal to extremely volatile, a person who had more outbursts in a single day then they normally have in an entire year? Something has changed, something is not right and the person is probably panic stricken, having volatile upswings in moments of hope and volatile downswings in moments of despair, this is what the market is at its most fundamental level, emotions represented in price action.

This week will be like that unstable person, just without their medication. We have a holiday shortened week which means volume will be low, we already recently saw the lowest volume of the entire year two weeks ago and it has been tracking or trending lower for sometime as I suspect people are pulling money out of all markets, MF Global is causing massive confidence issues with the futures market, which includes the S&P ES futures as the US government did nothing to protect MF Global's customers, now no one feels safe with their Futures broker as they could be the next MF Global. MFG was truly the canary in the coal mine, however the ramifications are going to and already much worse then what a single bankruptcy would seem to induce.

We will likely start the week off with another sugar rush volatile upswing as elections in Spain are favoring new leadership as Spanish citizens panic at the prospect of becoming the next Italy, which is likely inevitable. This will be the 3rd regime ousted from power in about 2 weeks and like the others, the market experienced a short lived sugar high, but once reality settles back in, the change in political leadership is really meaningless as austerity programs that are promised will take much, much longer to see any favorable results then the bond market will take in making Spain the next Greece, after Italy of course and if you need proof, simply look at Italian bond yields after the change in government, they continued to sky-rocket.

Furthermore while a new government that promises to tackle tough deficits may sound good to voters, when it comes time to implement austerity measures, they won't be so excited. Italy was happy to get rid of Berlusconi who by the way still has a majority party in Italy and can if they chose, block the new leader, Monti's, austerity efforts. While Monti was welcomed by the Italian people, it took less then a week for them to turn on his suggested reforms which included taking money directly out of every Italian citizens bank, a forced tax, re-intoducing a new tax on homes, adjusting the retirement age up by two years and several other very unpopular measures.

The Greek people are a template for the austerity reaction. Furthermore most austerity measures will further weaken already fragile economies, actually making the short term issue much worse which explains why the bond markets are not celebrating these new leaders, but pushing them closer toward default.

We also have the US's "Super-Committee" on debt reduction that has had 6 months to come up with a solution, yet they are no closer now then they were 6 months ago and Wednesday is the deadline. A failure to reach an agreement will trigger across the board cuts in everything and likely will result in ANOTHER US credit downgrade, however, the super committee was never meant to be anything other then a way to try to avoid a credit downgrade when Congress was running out of time on the debt ceiling. To try to avoid a credit event, they created a committee that simply kicked the can/argument down the road for another 6 months. How the market will react to an almost guaranteed failure probably won't be pretty, although hopes were never high. While an agreement still could be reached before Wednesday, in an election year, it serves both parties to come to no agreement as they will turn that in to an election year issue. They as political parties have more to gain from no agreement then they do from an agreement, the people and credit of the US be damned, power is all that matters to politicians.

However what will probably dictate most of the action and has the power to overwhelm any sugar high news events will be at 3 a.m. EDT when the bond markets in Europe open again. Should Italy soar in to the 7% area again, except the Spanish election victory to be a short lived celebration as the Greek and Italian ones were.

We also have Black Friday, the driver of the Santa Clause rally, which by my guess, will be a big disappointment. Q3 US GDP was saved by 1 thing, consumer spending, but since then, the US consumer's saving's rate has fallen off a cliff and it would appear they have less disposable income, which could set the stage for a very poor showing for Black Friday retail sales analysis.

Either way, events in Europe will certainly trump retail sales.

Furthermore, the liquidity situation in Europe as I recently posted as Italian banks are now borrowing directly from the British Stock Exchange, a surreal event in itself, shows how bad the short term funding in the PIIGS and EU as a whole truly is. The risk England is taking in loaning their trading customer's money to insolvent banks is tremendous and is reason enough for a major collapse.

What will be most informative will be our new indicators and seeing how they react this week, they may very well open up some great opportunities for new or add to positions as I showed you when I first released them, they identified the sugar rush moments in the market which were excellent shorting areas and true to form, the market promptly followed credit lower.

The EU political situation and the ECB are becoming the new hot topic as the EFSF has been deemed a total failure by the market. While the world pushes Germany to allow the ECB to lend through convoluted means, directly to faltering EU nations, the Germans seem to resist all the more as does the ECB which is independent, but under tremendous German influence as the Germans are effectively the last man standing in the credit markets, but even their bonds came under pressure this week.

Merkel seemingly wants to create a whole new EU from leaked documents and newspaper interviews, this would be more along the lies of a United States model and central control would be likely in Germany, this would mean that they would have the power to set laws and financial regulations for each "former sovereign" nation as well as kick out anyone they decided to, including France.

Germany is and has been making preparations to do whatever is needed to keep the contagion from reaching their economy and there have been very sharp stabs and arguments, both public and private between Germany and France and England in particular. If the ECB did what they have said until now they won't due, print, Germany will almost certainly exit the EU as the Weimar Republic and the inflation of the 20's is still one of the biggest nightmares that guide German policy. Germany will not allow everything they have built up in the post World War 2 and fall of the Berlin wall era to be destroyed by rampant, runaway inflation.

So for now, the ECB "Bazooka" remains holstered and the PIIGS will come under increasing bond vigilante attacks as well as the core as we have already seen across the board, but most of all in France.

To remind you of what credit is discounting (and credit leads the markets), take a look at the longer term view of some of our new indicators, which have confirmed exactly what 3C has been showing us (money is leaving the market not just because of fears, but because EU banks are selling all assets, stocks included to try to raise money desperately needed and if you want an example of how bad their situation is, understand fractional reserve banking and that EU banks are leveraged 26:1 which mean a simple 4% decline wipes out ALL bank equity, furthermore, if you recall during the 2008 US Lehman crisis, American corporations depend on banks for 30% of their short term funding needs, GE almost went belly up when they had no access to liquidity in the banking system, US corporations depend on banks for 30% of short term capital (payroll, etc) needs, EU corporations depend on EU banks for 80%!).

Here again is a reminder of what credit markets are discounting.

 Commodities warn of the end QE 1 top in 2010 as well as the QE2 bottom, ahead of the S&P. They also warned of the 2011 top and are warning now.

 Since the October rally, commodities have significantly underperformed.

 The FXE/Euro had excellent market correlation until QE2 forced all equities higher in a short term funding scheme, now the correlation (that QE2 is over) is coming back in to play and suggests the market have a lot more to fall just to catch up to the current arbitrage relationship.

 High Yield Bonds showed the 2009 market bottom at least 6 months before the S&P, credit was way ahead of the curve.

 High yield also exposed the 2000 tech implosion top, again at least 2 quarters before the S&P topped out. Truthfully there were very few gains to be made in the S&P at the top and traders could have certainly lost more money trading the top.

 The 2007 subprime top was revealed by credit several quarters ahead of equities, this was the time that CNBC pundits were still claiming the Dow would hit 20,000. HY also showed the 2009 bottom 3 months before the S&P bottomed.

 The QE1 end forced a short term top in the market, HY credit saw this months before.

 Here is the recent July market decline which was very bad, Credit called it while the market was still uncertain.

 Now there's a significant divergence between the S&P and HY credit.

 Here's my custom financial indicator showing the 2007 top as well as the final 2008 top that led to the severe 50% decline. Financials have underperformed the entire Quantitative Easing regime, this can be seen in almost any financial chart for the time period, it is now almost near the level of the 2009 bottom at a significant divergence.

Take BAC-Bank of America as an example.

Many financials look even worse during this period as momentum and heavily weighted index stocks were bought to drive up the market, a very deceiving period. BAC has lost up to -72% from the 2010 highs which is nearly on par with the 2007-2009 decline of about -87%, the difference this time, the F_E_D's QE regime made true price discovery irrelevant and now that it is over, the true valuations are starting to be discounted which would imply a move below the 2007 lows. My 5 part video series saw the DOW around 5000 by the time this was over, many things have changed for the worse then and a recent research note from an institutional bank sees the S&P around 700 or SPY $70!

 The market is drawn like a magnet to rates, hear the 200 tech top is called and the market follows rates lower.

 The recent 2011  top was called by rates.

 Here we see the final stand in the market in 2008 before all heck broke loose, again credit diverged from the S&P and the decline began in earnest.

 Rates also called the 2009 market bottom and were trending up 3 months before the S&P bottomed.

 The recent July top preceding the ugly decline  was also reflected in rates first and now there is a huge divergence, much bigger then the July divergence, between rates and the S&P.

 Here's the big picture in yields, starting from the 2009 bottom, the 2010 intermediate top, the 2011 market top and currently they are now below the 2009 market bottom while the S&P is about 78% higher, much do to the F_E_D's Quantitative Easing ploy which gave primary dealers hundreds of billions of dollars to hold treasuries for a few weeks before selling them to the F_E_D as the F_E_D can not buy treasuries from direct auctions. The profits by the primary dealer banks (in an apparent agreement with the F_E_D for such obscene profits) then invested in the most heavily weighted market stocks as the profits were found money for the PDs, sending the averages higher, even while a majority of stocks didn't participate (this is because in most market averages, stocks are not given equal weight, for example, during QE2 AAPL had as much weight on the NASDAQ 100 as the 50 bottom stocks combined, so for example, if it was the NASDAQ 51 with the 50 bottom weighted stocks and AAPL and the combined decline of the 50 bottom stocks was -1% for the day and AAPL was up +2.5% on the day, the NASDAQ 51 Index would have registered a +1.5% gain on the day!). Now that QE regime is over, stocks are left massively overvalued, especially compared to credit which as displayed, is now lower then the 2009 bottom. This is a very serious dislocation in equity values, although you don't need a chart, just simple common sense to understand that stocks hit the same level as the market in 2006 when unemployment was running around 3% or less and consumers were spending money (although via credit lines on their homes) like mad. The economy back then "seemed" to be in much better shape. 5 years later stocks trade at the same level even though corporate profits have fallen, the unemployment rate is around 9% while the underemployment rate is near 20% which is the same way unemployment was measured during the great depression, GDP is near double dip recession levels , we have a middle east in disarray and an entire continent on the verge of collapse as well as signals that China is moving toward their own 2007 property bubble. How can stock valuations possibly make sense considering the 2 environments? They can't without F_E_D schemes that caused artificial values in the market! It seems kicking the can down the road just experienced a road block and equities are set to do what the market has always done over its history and revert to the mean, except the market is emotional and as much as it overshoots, like a pendulum, it reacts the same n the other direction, meaning that emotionally it is likely to overshoot on the downside as well and my projections back in 2007 may have been too optimistic!

Short term yields on an intraday basis reveal the start of the October rally several weeks before it began as well as some major 1 day declines in the market and an overall short term divergence between stock valuations and yields and the market eventually catches up to yields as well as everything else I have shown you.

None of this has to do with 3C, which is a totally different indicator that does not rely on any of the above indicators, yet 3C reveals the same problems and has for some time, it's just now the process of reverting to the mean is picking up steam as the "Kick the can down the road" regime has seemingly run out of viable options. Some may say, "It's time for the market to take its medicine".

 Long term indicators are subject to much less manipulation of the market. Here's the long term S&P-500 hitting multi decade lows.

And the Dow-30 doing the same.

Again the forest is much more important then the trees in your long term success. I said long before I saw how bad these readings were, "We have an unprecedented opportunity as the market shifts from a long term secular bull market to the first ever long term secular bear market which no trader has ever traded-those who figure it out first, will be the ones to profit". Considering retail traders still have not adapted to Wall Street gaming or head faking technical analysis since the advent of the Internet and cheap online brokers, even though they have had more then a decade to do so, I see those who can't or are unwilling to adapt, being led to a slaughter that we have never seen and those on the other side of the trade who think outside of the box and adapt quickly, will be the ones taking their money as trading is and always be a zero sum game.


I'll update as the situation unfolds for this week with FX markets open shortly.